There are two kinds of asset price bubbles -- those financed by equity (the U.S. dot-com experience) and those financed by debt (the U.S. residential real estate debacle).

The bigger problem is the competing interests between central government and local officials.

The really damaging dynamics when bubbles burst come from high levels of debt. This is manifest in two ways: the people who over-borrow go through various kinds of economic and personal stress; and the banks that lent to them need to cut back on all other kinds of loans, and may even become insolvent.

Could China have a U.S.-style financial crisis if house prices rise further and then fall sharply? This would be hard because while their households can definitely borrow too much and their banks can lose massive amounts of money, the Chinese government stands firmly and explicitly behind its big banks, which it majority owns and controls. If Chinese banks have major losses, the government will provide more capital, thus averting any kind of system-wide crisis.

This is not an ideal arrangement in many ways -- having the state run any banking system usually leads to the misallocation of credit and lots of waste; there are many bridges to nowhere and likely already too much steel produced. Whether or not the bankers themselves are careful probably depends on what happens to them individually when their institutions run into trouble.

The bigger problem, however, is not the banks, it’s the government officials. Chinese bureaucrats are promoted primarily on the basis of the economic growth they deliver in their respective jurisdictions. None of these performance measures are properly risk-adjusted, so the temptation for any given official is to take on a great deal of risk, for example, by encouraging more local land and building deals, and hope that any downside (like a big crash) happens after he or she has been promoted.

The central government wants to rein in housing prices -- and will continue to push in this direction, including through all its controls over banks. But local officials want local growth and the one good way to get that in the short term is by encouraging more local leverage, so that individuals and companies borrow more.